Introduction to Economics

1. Introduction to Economics International Finance Distribution of Income

2. Recession began in April, 2001 Employment in Millions, Seasonally adjusted Source:http://www.dismal.com/ The Dismal Scientist’s Site

3. What is the Greatest Threat to International Stabilty? • Political: Terrorism • Economic: International Monetary Crisis • cause: speculative bubble in high growth rate economies • trigger: currency speculators trying to destabilize the currency • problem: capital flight • target country defense: sufficient foreign currency reserves • international defense: International Monetary Fund loans

4. An Example of an International Financial Crises • East Asian Crisis

5. source: Business Week 11-17-97 Thailand in 1997 • Production down • Toyota shuts down 2 large factories in Bangkok • Banks hold bad loans • speculation in golf courses, condos, high rises • West worries: potential Intl. financial crisis • International Monetary Fund: bailout loans • Indonesia: $10 B • US Treasury pledges $3B • Thailand: $22 B • Philippines: $1B • South Korea: $40B

6. Problems • Potential instability is associated with bad investments in growing countries • trigger could be speculation against a currency if authorities hold insufficient currency reserves • Only international mechanism for stabilization is cooperation among countries and central banks

7. Changing Scenario in Asia Four Tigers: Hong Kong, Taiwan, Singapore, South Korea Thailand and Neighbors: China, Malaysia, Indonesia Source: Economic Report of the President , 1997

8. source: CIA

9. source: Federal Reserve Bank of St. Louis

10. Capital Flight 1. foreigners sell their Thai investments 2. foreigners exchange their Baht proceeds for say dollars 3. Demand for dollars shifts and price of the dollar in Bahts rises demand for dollars supply of dollars Bahts per US $ quantity of dollars

11. source: Federal Reserve Bank of St. Louis

12. Capital Flight 4. Thai authorities could use their Dollar Reserves to buy Bahts, stabilize the x-ch rate, but they may have used those $ to buy capital goods to support growth demand for dollars supply of dollars Bahts per US $ quantity of dollars

13. Source: Yardeni

14. Source: http://interactive.wsj.com

15. Source: Yardeni ‘94 Exports: Manufactures: 73% Partners: US 21% Japan 17%

16. Capital Flight: Can tell the story in either currency 1. foreigners sell their Thai investments 2. foreigners exchange their Baht proceeds for dollars 3. Supply of Bahts shifts and the dollar price of the Baht falls supply of Bahts demand for Bahts dollar price of Baht quantity of Bahts

17. Currency Speculators can Trigger a Crisis • For example, currency speculators could sell Bahts, trying to drive the price down, guessing that the Thai authorities did not have sufficient foreign currency reserves to buy Bahts, and defend their currency • In 1997, the speculators tried to destabilize Hong Kong, but the authorities had large reserves of foreign exchange and the speculators failed

18. Currency Speculators: A destabilizing influence 1. Currency speculators sell their Bahts driving the Baht down 2. If the Thai authorities do not have sufficient dollar reserves to buy Bahts, they can not defend the currency supply of Bahts demand for Bahts dollar price of Baht quantity of Bahts

19. Thailand Economy Source: World Factbook overview: After enjoying the world's highest growth rate from 1985 to 1995 - averaging almost 9% annually - increased speculative pressure on Thailand's currency in 1997 led to a crisis that uncovered financial sector weaknesses and forced the government to float the baht. Long pegged at 25 to the dollar, the baht reached its lowest point of 56 to the dollar in January 1998 and the economy contracted by 10.2% that same year. Thailand entered a recovery stage in 1999, expanding 4.2% and grew about the same amount in 2000, largely due to strong exports - which increased about 20% in 2000. An ailing financial sector and the slow pace of corporate debt restructuring, combined with a softening of global demand, is likely to slow growth in 2001.

20. Could the US, as a Debtor Nation, Have a Problem? • To finance our excess imports of goods and services, we sell securities to foreigners • As a consequence, we are leveraged by this debt

21. Link Between Government Deficits and Trade Deficits

22. US Govt. runs a deficit • citizens don’t want higher taxes • US Treasury finances deficit by selling treasuries • US citizens & institutions buy in primary market • foreign citizens & institutions buy in primary market • Why do foreigners invest in US? • politically stable country • may be attracted by: • low US inflation rate • high US interest rate ( when they are high!)

23. Central Bank Responsibilities: Domestic and Foreign Treasury Issues Bonds US Govt Deficit Foreigners Buy Bonds Foreign Concern with US Inflation Federal Reserve Foreign Concern with US Interest Rates

24. Capital Flight 1. foreigners sell their US securities 2. foreigners exchange their US $ proceeds for Yen 3. Supply of dollars shifts and price of the dollar falls supply of $ demand for $ Yen price of US $ quantity of $ 4. Federal Reserve may use its Yen Reserves to buy $, stabilize x-ch rate

26. US Dollar and other Currencies, 1988-96 Source: Handbook of International Economic Statistics

27. Real Long Term Interest Rates Real rate = nominal rate minus expected rate of inflation

28. Japanese Yen Thailand Baht capital flight devaluation Summary-Vocabulary-Concepts

29. Outline: Lecture Sixteen • The Distribution of National Income by Input Factor Shares • The Distribution of Personal Income • Trends in US Income Inequality • Poverty

30. source: Lecture Six

31. Rent to Persons Net Interest Corporate Profits Proprietor’s Income 2/3 Employee Compensation 1/3 capital, land, entrepreneurship

32. If workers are paid a real wage equal to their marginal product of labor, • and other factors of production are paid their marginal product of production, • does not everybody get their just desserts?

33. Defense of the Status Quo • If the economy has constant returns to scale, • If labor is paid its marginal product, • If capital receives its marginal product, • Income paid to labor & capital = output • Everybody is paid what they are worth and there is no exploitation • MERITOCRACY

34. Variation of Personal Income • The Distribution of Income • California Income 1993 • Number of tax returns by adjusted gross income (AGI) class • US Income

35. Source: California Statsitical Abstract

37. CA AGI, Frequency & Cumulative Frequency

40. US Family Income 1995

41. Measures of Income Inequality • Lorenz Curve • What % of Population Has What % of Income • Gini Coefficient • range: 0, meaning equal, to 1, meaning unequal • Examples • socialist ideal: equality • life as a crap shoot: any income is equally likely

42. 33000

43. Equal Distribution of Income

45. Uniform Distribution of Income

46. Gini Coefficient = A/(A+B) A B

47. US Family Income, 1994 Source: US Statistical Abstract

50. Why is Income Distributed So Unevenly? • Labor Income is Unevenly Distributed • Part-time work • less than 50 weeks per year • less than 36 hours per week